Fitch Cuts Hewlett-Packard Ratings

[Anonymous]

Fitch cuts Hewlett-Packard ratings

 Fitch Ratings has downgraded the ratings of Hewlett-Packard Company
 (HP) and its wholly-owned subsidiary Electronic Data Systems LLC (EDS) as follows: HP

–Long-term Issuer Default Rating (IDR) to ‘A-‘ from ‘A’;
–Short-term IDR to ‘F2’ from ‘F1’;
–Senior credit facilities to ‘A-‘ from ‘A’;
–Senior unsecured debt to ‘A-‘ from ‘A’;
–Commercial paper (CP) to ‘F2’ from ‘F1’.

Hewlett-Packard International Bank PLC
–Short-term IDR to ‘F2’ from ‘F1’;
–CP to ‘F2’ from ‘F1’.

EDS
–Long-term IDR to ‘A-‘ from ‘A’;
–Senior unsecured debt to ‘A-‘ from ‘A’.

The Rating Outlook is Stable.

The downgrades reflect:

–HP’s weaker-than-expected free cash flow (FCF) forecast of approximately $4
billion post dividends in fiscal 2013 compared with Fitch’s expectations for $5
billion – $6 billion. The shortfall primarily reflects the loss of four major
contracts in Enterprise Services (ES) and associated decline in revenue and
profitability in fiscal 2013.

–Execution risks and longer than anticipated time frame required for HP to
achieve a balance sheet reflective of an ‘A’ rated issuer.

–The increasing potential for incremental restructuring actions and associated
cash payments to realign ES headcount with the lower forecasted revenue base.

The ratings and Stable Outlook are supported by HP’s:

–Broad product portfolio with strong worldwide market share positions in
servers (#1), PCs (#1) and IT services (#2);

–Significant recurring revenue (33% of total revenue) primarily via printer
supplies, outsourcing and technology services, and software maintenance;

–Extensive market coverage due to established multi-channel distribution model;

–Geographically diversified revenue base with approximately 66% of revenue
derived from outside the U.S.;

–Solid liquidity provided by nearly $9.5 billion of cash (primarily offshore),
deteriorating, but consistent annual FCF and $7.5 billion of undrawn committed
credit facility capacity;

Rating concerns include:

–Numerous internal and external challenges, consisting of, competitive pricing
pressures, historical underinvestment, strong yen and excessive channel ink
supplies inventory.

–Heightened acquisition risk and profitability pressures following material
underinvestment in the services business and research and development (R&D) in
prior years. Fitch believes return on investment in these areas will likely take
several years, resulting in intermediate term profitability pressures and,
potentially, acquisitions necessary to maintain the company’s competitive
position.

However, Fitch believes near-term acquisition risk is mitigated by CEO Meg
Whitman’s stated intent to rebuild the balance sheet and regain an ‘A’ rating.

–Increasing competition in the industry standard server (ISS) market (x86) as
products from relatively new entrants, specifically Cisco Systems (Cisco) in
large enterprise and Lenovo Group (Lenovo) in small and medium business, begin
to gain traction in the marketplace. Fitch believes Cisco and Lenovo account for
only 5% – 6% of total server shipments currently but are growing rapidly.

–Declining hardware market share in the Asia Pacific (APAC) region, excluding
Japan, primarily due to share losses in China. Fitch believes HP’s review of
strategic alternatives for PSG, increasing competition from Dell, Lenovo and
Cisco Systems, and weakness in BCS resulted in materially lower PC and server
revenue in China.

–Continued decline in high margin business critical systems (BCS) revenue,
which fell nearly 23% in the latest 12 months ended July 31, 2012, following
Oracle’s decision to discontinue all software development for Intel’s Itanium
microprocessor. Oracle reinstated software support for the Itanium processor
after HP won its breach of contract lawsuit against Oracle. Nonetheless, Fitch
believes BCS revenue will continue to decline due to a shrinking UNIX market and
share losses to IBM.

HP’s technology services revenue and operating margin has also be adversely
affected as customers gradually migrate to UNIX servers offered by competitors
(IBM and Oracle) or x86 servers with less profitable support contracts.

–Weak consumer demand in mature markets and potential long-term hardware
revenue and profitability pressures if commercial customers aggressively adopt
cloud computing and the market for cloud services is highly concentrated. In
this scenario, cloud providers would have significant pricing leverage due to
scale and/or could accelerate their utilization of unbranded custom-built
servers.

In addition to its solid cash position and consistent FCF, HP’s liquidity is
further supported by two undrawn revolving credit facilities, which had
aggregate capacity of $7.5 billion as of July 31, 2012, and multiple revolving
trade receivables facilities with $1 billion of available capacity as of July
31, 2012. HP’s revolving credit facilities consist of a $4.5 billion credit
facility expiring in February 2015 and a $3 billion facility expiring in May
2017.

Total debt was $29.7 billion as of July 31, 2012, consisting of $5.7 billion of
short-term debt, including current portion of long-term debt, and $24.1 billion
of long-term debt. Fitch estimates approximately $11 billion, or 37% of total
debt, is attributable to HP’s customer-financing business.

HP’s core (non-financing) leverage (core debt/core EBITDA) increased to 1.3x as
of July 31, 2012 from 0.8x in the prior year and core interest coverage (core
EBITDA/ core interest expense) declined to nearly 29x compared with in nearly
100x in the year ago period. Total leverage increased to 2x at July 31, 2012
from 1.4x in the prior year. Total interest coverage decreased to 18x in the
latest 12 months ended July 31, 2012 compared with approximately 38x in the
year-ago period. Fitch forecasts total leverage and interest coverage of 1.7x
and approximately 15x, respectively, in fiscal 2013.

[Author]

October 9, 2012 at 8:18 AM